Question 1 Riggs, Inc. management is planning to spend $650,000 on a new marketi

Question

Question 1 Riggs, Inc. management is planning to spend $650,000 on a new marketing campaign. They estimate this will result in additional cash flows of $325,000 over the next three years. If the cost of capital is 17.5 percent, what is the NPV of this investment?

Question 2 Kingston, Inc. management is considering purchasing a new machine at a cost of $2,500,000. They expect this equipment to produce cash flows of $850,000 over the next five years. The new machine can be salvaged for $100,000 at the end of five years. If the cost of capital is 15 percent, what is the NPV of this investment?

Question 3 Kingston, Inc. management is considering purchasing a new machine at a cost of $4,250,000. They expect this equipment to produce cash flows of $1,250,000 over the next five years. The machine can be sold for $120,291 at the end of five years. What is the IRR of this investment?

Question 4 Morningside Bakeries has recently purchased equipment at a cost of $1,050,000. The firm expectes to generate cash flows of $500,000 from this equipment over the next four years. What is the payback period for this project?

Explanation / Answer

1. Present value of cash inflows = $ 325,000 x 2.1918 = $ 712,335

NPV = $ 712,335 - $ 650,000 = $ 62,335

2. Present value of cash flows = $ 850,000 x 3.352 + $100,000 x 0.497 = $ 2,898,900

NPV = $ 2,898,900 - $ 2,500,000 = $ 398,900

3. The IRR, as per Excel, is 15%.

4. Payback period = Initial investment / Average annual cash flows = $ 1,050,000 / 500,000 = 2.1 years

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